Personal Finance - Ethical Investing

A few years ago my former group was holding an investment seminar for clients in Bali. A fund manager from London was proudly illustrating his choice of stocks for one of the funds he managed. When he told the audience he had chosen a major tobacco company as part of his portfolio a lady stood up and said words to the effect that he should be ashamed of himself. As he stood in a state of semi-shock she explained that her husband had died as a direct result of smoking and now she was being told that she should invest in the industry. The fund manager, normally shielded from the end users of his funds, had come face to face with the issue of ethics in investing.

THIS IS NOT A NEW SUBJECT

In fact, socially responsible investing or SRI, dates back to 1798 when the Quakers prohibited members from participating in the slave trade. In more recent decades protesters have campaigned against polluting chemical companies, demonstrated against companies operating in South Africa during apartheid and have had a considerable influence on the activities and even financial standing of many enterprises.

As a general rule, socially responsible investors support corporate practices that promote environmental awareness, consumer protection and human rights and avoid any company involved in alcohol, tobacco, gambling or weapons. In the UK in 1985 Friends Provident launched the first ethically screened investment fund. It excluded tobacco, arms, alcohol and oppressive regimes. Since then scores of ethical funds have emerged around the world to meet the demands of investors who want to have a say in the ethics of assets in which they are investing. It is estimated that in the UK alone some GBP6.7 billion is now invested in ethical and environmental funds.

BUT WHERE AND HOW DO YOU DRAW THE LINE?

BP's recent oil spill in the Gulf of Mexico gave rise to a storm of protest against the oil Industry. To demonstrate his decisiveness in controlling the situation President Obama ordered a six month moratorium on all deep sea drilling. Investing in oil had lost its glamour. But as a result of the moratorium thousands of oil workers were put out of work and oil production in the US will suffer as a result. Do the protesters not think things through and realise how much they depend on oil in their daily lives? Perhaps they just want to see the dependence on oil replaced by newer and cleaner forms of energy. But who are the leaders in these fields? You guessed it – the big oil companies!

And what if tobacco companies shut down overnight in countries like Indonesia? The livelihood of millions of people who are employed in the industry would be destroyed. Of course, a counter-argument would be that they could be redeployed to produce more useful crops and help alleviate the inevitable food shortages that lie ahead. A noble thought, but it would take a massive effort on the part of the government and a huge culture shift to achieve this.

Let's take a look at some of the other items targeted.

ALCOHOL - SOCIAL ASSET OR DEMONIC BREW?

Each will have his or her opinion here. Religious groups throughout history have periodically condemned alcohol as the drink of the devil. There is no shortage of evidence to support that position. From the drunken brawls of youths in the towns of Britain on a Saturday night to the shattered lives of alcoholics and their families there is no question that drink has an evil side. On the other hand, most will probably argue that responsible drinking can add to the quality of life and indeed the medical industry even states that moderate drinking (equivalent to just one or two glasses of wine a day) is actually beneficial to health.

THE ARMS INDUSTRY

Again there is no question that weapons in the wrong hands can cause death and destruction in the world. The American love of guns is the cause of thousands of deaths each year. Yet proponents of the gun lobby will argue that it is the right of every American to own a gun to defend himself and his family. Maybe so, but I spent three years in Houston, Texas, and the nightly news was always full of stories of those very guns being used in domestic disputes or being found and used fatally by children.

What about larger weapons that are used to fuel the wars and insurgencies in many parts of the world? Yes, it would be a more peaceful world if the manufacture of arms was abolished. But who is going to be the first to abolish them? What if pacifists had won the day in Britain at the start of World War II? Would Hitler have said let's be fair lads, let's not invade because they can't defend themselves? I think not. A country has to have weapons to defend itself. With luck, they will never be used.

FORESTRY AND TIMBER

Is it a bad thing to invest in forestry? There have recently been protests affecting palm oil plantations in Indonesia due to the allegation that they are destroying pristine forests. It is a sad sight flying north from Singapore over Malaysia where nothing can be seen below for hundreds of miles other than neat rows of palm trees where once there was pristine jungle. No question that thousands of acres of rainforest are being destroyed every year and replaced by relatively sterile plantations.

Yet responsible forestry projects can still meet the needs of expanding populations by proper management and control. Many products such as bamboo are renewable and do not destroy large tracts of jungle. If investment in forestry stopped, the jungles would probably be destroyed at a faster pace. The key is to ensure that money is invested in companies that follow good environmental practices.

LITIGATION FUNDS

This is a very new and lucrative investment opportunity for the smaller investor since demand for funding cannot be currently satisfied by the traditional institutional sources of finance. But already I have heard objections to this asset class, mainly from Americans. The reason undoubtedly is that litigation in the US is out of control. You probably heard of the case a few years ago when a woman was awarded millions of dollars in damages against McDonalds because her cup of coffee burned her throat. And all expats who take out medical insurance will be aware of the restrictions on claims arising in the US. It's not because doctors there are overpaid; it has more to do with the cost of insuring against malpractice.

The same situation does not prevail in the UK or other western countries. There, litigation funding is usually helping the small guy with a good cause to take on the big guys who otherwise would overwhelm him with their access to funds to fight him through the courts. So long as this is the case I see nothing unethical about helping to fund the smaller guy. Should the day come when ludicrous damages defy common justice then that is the time to pull the plug.

THE CASE FOR ETHICAL INVESTING IS A COMPLEX ONE

Clearly there is a good side and a bad side to everything. Sometimes the bad side is so bad that it cannot be defended. Maybe the lady who stood up and ostracized the fund manager for supporting the tobacco industry had the strongest case. As for the others, there is often a good side that would suffer if the bad side is attacked. Oh yes, and there is one other consideration; ethical funds often underperform conventional funds. This factor can often put to the test the level of resolve to support ethical principles!

Colin Bloodworth has worked as a financial adviser in Indonesia since 1992. He is Director of PPI Indonesia and can be contacted at colin.bloodworth@ppi-advisory.com or +62 21 3004 8024